From PRINT EDITION MicroCap Review Fall 2017 Issue

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Thursday, September 14, 2017

By Leslie Richardson

Weeks before Hong Kong’s 20th anniversary of the handover to China on July 1st, the Hang Seng Index hit a two-year high as it crossed over 26,000. For the year, the Hang Seng Index is up 20 per cent bolstered by the expanding flow of capital from China. Since Britain’s lease on the city ended, Hong Kong’s stock market capitalization is up eightfold growing from HK$3.2 trillion (US$410 billion) as of the end of 1997 to HK$28.0 trillion (US$3.6 trillion) as of mid-July with the city advancing to the world’s 7th largest market from 10th largest market two decades ago. China opening-up policies in an effort for mainland businesses to become more globally competitive transformed Hong Kong from a market dominated by British Colonial firms and local conglomerates to an international hub with an increasingly important role as a gateway to China. Since 2014, a series of events, including the launch of Shanghai-Hong Kong Stock Connect and Shenzhen-Hong Kong Stock Connect and the flow of mainland insurance funds and mutual funds into Hong Kong, have brought more mainland capital to the Hong Kong market. Mainland Chinese companies dominated Hong Kong’s IPO market last year as Chinese IPOs raised HK$156.6 billion, representing 82 per cent of all listings. Southbound flows from investors trading through Shanghai and Shenzhen Connect continue to increase with many Chinese mom-and-pop retail investors looking for bargains outside mainland China. Mainland companies with dual listings have an average discount of 25% in the SARS. Longer term, Hong Kong's equity market is expected to benefit from China’s Belt and Road projects and the development of the Pearl River Delta economic zone.

The Hong Kong Exchange (HKEX) continues to look for ways to enhance the city’s competitiveness as a global financial center by attracting high-growth, new economy companies, diversifying its markets and developing Hong Kong's technology sector. Despite ranking as a top destination for IPOs, the exchange still struggles to attract significant volume of technology deals. Last year the financial services sector accounted for 69 per cent of total fund raised while the technology sector accounted for only 3 per cent. As part of strengthening the scale and quality of Hong Kong’s capital markets and continuing to develop Hong Kong’s market as a competitive international hub, HKEX is evaluating adding a third board to attract more technology firms along with start-ups for new economy and technology companies. Currently, technology companies are turned away from listing because they are unable to meet specific financial yardsticks due to having no profit or low cash flow. The proposed new board is expected to have two markets, one for large companies that match all the main board requirements but who cannot list in Hong Kong because they have dual-class stock structures and a second market dedicated to start-ups companies.

In the first half of 2017, Shanghai and Shenzhen overtook Hong Kong as they knocked the city to fourth place in terms of IPO funds raised. Hong Kong had 69 new listings raising approximately HK$53.8 billion for an increase of 77% from 39 IPOs and up 23% from HK$43.6 billion raised during the first half of 2016. With just three large IPOs, small and medium-sized deals dominate the first half of the year.

Education proves to be profitable with private schools and tutoring institutions springing up around China as state schools cannot meet the growing demand for quality education among China’s middle class. Two successful IPO’s in China’s private education sector are Wisdom Education International (6068:HK) which raised US$150 million and China YuHua Education (6169:HK) which raised US$245 million. Wisdom Education International is up 71 per cent while YuHua Education is up 36 per cent as of July 17, 2017 from their respective IPO dates. Wisdom Education International is considered the largest private school group in South China and YuHua Education currently operates one university and 24 schools in the K-12 education segment. Listing on the GEM board this February, Dadi Education Holdings Ltd (8417:HKG), a consultancy firm that advises students on overseas studies, raised HK$148.8 million (US$19.0 million) and is up 324% since its IPO. Another noteworthy IPO on the GEM is In Technical Production Holdings (8446:HKG), a leading visual display solution provider for pop concerts, corporate events and exhibitions in Hong Kong which raised HK$60 million (US$7.7 million) in mid-June and is up 271 per cent as of July 17th since its IPO.

During the first week of July, two technology companies announced their plans for an IPO this year. Razor, a California based gaming company backed by Hong Kong tycoon Li Ka-Shing, is looking to raise more than HK$600 million (US$77 million). Razer plans to use the IPO proceeds to develop new verticals in the gaming and entertainment industry such as smartphones, to expand its research and development capabilities, and finance acquisitions to expand its ecosystem. Founded in 2005 by Singaporean entrepreneurs Min-Liang Tan and Robert Krakoff, Razer's main business is manufacturing gaming peripherals such as mouse, keyboards, and mouse pads, as well as laptops specifically designed for playing video games and e-sports events, where audience watch professional video game players compete on big screens. Around 50% of its sales come from the U.S. market, while around 13% is from China. Recent investments and acquisitions include the iconic audio IP THX, the mobile hardware firm NextBit, and the SE Asia-focused e-payment specialist MOL, which is now the "master distributor" of Razer's zGold virtual currency.

The other technology firm to announce its IPO is Tencent’s online publishing service, China Literature. China Literature is considered to be China’s equivalent to Amazon Kindle’s service and is expected to raise up to HK$800 million (US$102 million). The company has 175.3 million monthly users across all services and 8.4 million pieces of content from more than five million writers. Tencent (0700:HK), one of the largest internet and gaming company in the world and Asia’s highest value technology firm, owns 65 per cent of the business. Tencent is expected to retain at least 50 percent control as China Literature becomes a subsidiary.

Editor's Note: Ms. Leslie Richardson has over 20 years of investment management and equity research experience. She operates a boutique investor relations firm in Hong Kong for Asian companies listed in the U.S. and Hong Kong. She also assists private companies develop investment material and build an investor following in preparation for a public listing. Additionally, she is the Asian Correspondent for MicroCap Review, a financial magazine focused on mircocap companies. Previously, she worked for CCG Elite in assisting Asian-based, U.S. listed clients formulate key communication strategies. Ms. Richardson began her investment career at U.S. Trust Company then went on to join Odyssey Advisors as a portfolio manager and Director of Research. Ms. Richardson specialized in high growth sectors such as bio-tech, alternative energy, IT and telecommunications. She earned her M.B.A. from the University of Southern California. Ms. Richardson is based in Hong Kong.